Professional Documents
Culture Documents
Assignment No.
Discipline
Term
Submitted By
Examination Roll No.
Islamic Banking
02
M.B.A. (Executive)
IV
Samiullah Khan
056
ASSIGNMENT QUESTIONS
Q.1: Define the term Ijarah with a brief introduction to it?
Q.2: Write a detailed note on Islamic Banking in Pakistan?
Q.3: Briefly explain the rationale of Islamic Banking?
Q.4: Write a detailed note on Salam. What are the pre-requisites of a valid
Salam?
Q.5: Define Istisna. Write a detailed note on Istisna as a mode of financing?
"Ijarah" is a term of Islamic fiqh. Lexically, it means 'to give something on rent'. In
the Islamic jurisprudence, the term 'Ijarah' is used for two different situations. In the
first place, it means 'to employ the services of a person on wages given to him as a
consideration for his hired services." The employer is called 'mustajir' while the
employee is called 'ajir'.
Therefore, if A has employed B in his office as a manager or as a clerk on a monthly
salary, A is mustajir, and B is an ajir. Similarly, if A has hired the services of a porter
to carry his baggage to the airport, A is a mustajir while the porter is an ajir, and in
both cases the transaction between the parties is termed as Ijarah. This type of Ijarah
includes every transaction where the services of a person are hired by someone else.
He may be a doctor, a lawyer, a teacher, a laborer or any other person who can render
some valuable services. Each one of them may be called an 'ajir' according to the
terminology of Islamic law, and the person who hires their services is called a
'mustajir', while the wages paid to the ajir are called their 'ujrah'. Labor
The second type of Ijarah relates to the usufructs of assets and properties, and not to
the services of human beings. 'Ijarah' in this sense means 'to transfer the usufruct of a
particular property to another person in exchange for a rent claimed from him.' In this
case, the term 'Ijarah' is analogous to the English term 'leasing'. Here the lessor is
called 'Mujir', the lessee is called 'mustajir' and the rent payable to the lessor is
called 'ujrah'.
Both these kinds of 'Ijarah' are thoroughly discussed in the literature of Islamic
jurisprudence and each one of them has its own set of rules. But for the purpose of the
present book, the second type of Ijarah is more relevant, because it is generally used
as a form of investment, and as a mode of financing also.
The rules of Ijarah, in the sense of leasing, is very much analogous to the rules of sale,
because in both cases something is transferred to another person for a valuable
consideration. The only difference between Ijarah and sale is that in the latter case the
corpus of the property is transferred to the purchaser, while in the case of Ijarah, the
corpus of the property remains in the ownership of the transferor, but only its usufruct
i.e. the right to use it, is transferred to the lessee.
Therefore, it can easily be seen that 'Ijarah' is not a mode of financing in its origin. It
is a normal business activity like sale. However, due to certain reasons, and in
particular, due to some tax concessions it may carry, this transaction is being used in
the Western countries for the purpose of financing also. Instead of giving a simple
interest - bearing loan, some financial institutions started leasing some equipments to
their customers. While fixing the rent of these equipment, they calculate the total cost
they have incurred in the purchase of these assets and add the stipulated interest they
could have claimed on such an amount during the lease period. The aggregate amount
so calculated is divided on the total months of the lease period, and the monthly rent is
fixed on that basis.
The question whether or not the transaction of leasing can be used as a mode of
financing in Shariah depends on the terms and conditions of the contract. As
mentioned earlier, leasing is a normal business transaction and not a mode of
financing. Therefore, the lease transaction is always governed by the rules of Shariah
prescribed for Ijarah. Let us, therefore, discuss the basic rules governing the lease
transactions, as enumerated in the Islamic Fiqh. After the study of these rules, we will
be able to understand under what conditions the Ijarah may be used for the purpose of
financing.
Although the principles of Ijarah are so numerous that a separate volume is required
for their full discussion, we will attempt in this chapter to summarize those basic
principles only which are necessary for the proper understanding of the nature of the
transaction and are generally needed in the context of modern economic practice.
These principles are recorded here in the form of brief notes, so that the readers may
use them for quick reference.
Q.2: Define the term Riba. Aslo explain its types?
The word "Riba" means excess, increase or addition, which correctly interpreted
(consideration
does
not
include
time
value
of
money).
This definition of Riba is derived from the Quran and is unanimously accepted by all
Islamic scholars. There are two types of Riba, identified to date by these scholars
namely 'Riba An Nasiyah' and 'Riba Al Fadl'.
'Riba An Nasiyah' is defined as excess, which results from predetermined interest
(sood) which a lender receives over and above the principle (Ras ul Maal).
'Riba Al Fadl' is defined as excess compensation without any consideration resulting
from a sale of goods. 'Riba Al Fadl' will be covered in greater detail later.
During the dark ages, only the first form (Riba An Nasiyah) was considered to be Riba.
However the Holy Prophet also classified the second form (Riba Al Fadl) as Riba.
According to Quran, the term Riba means any excess compensation over and above
the principal which is without due consideration. However, the Quran has not altogether
forbidden all types of excess; as it is present in trade as well, which is permissible. The
excess that has been rendered haram in Quran is a special type termed as Riba. In the
dark ages, the Arabs used to accept Riba as a type of sale, which unfortunately is also
being understood at the present times. Islam has categorically made a clear distinction
between the excess in capital resulting from sale and excess resulting from interest.
The first type of excess is permissible but the second type is forbidden and rendered
Haram.
The basic cause of prohibition of riba is that economic activity does not involve the
investor & he gives his money under control of someone else. Because of which he
becomes idle & ceases to play any active role in the society. The control of a large
amount of money in few hands gives rise to monopoly & power to influence all sectors
of social life.
Since investor is away from actual economic activity, he has no sense of social
responsibilities, & does not have active participation in social development. Easy money
spoils the character. The hard working classes like labor groups, workers, employees,
are left behind in development & prosperity giving rise to a gap which creates class
system & social unrest.
The economic monsters thus created take control of new resources growing more
powerful. Since possession of money becomes sole criteria to occupy resources. The
honest & hardworking people are prevented from participation in economic activities &
playing
an
active
role.
Thus,
an
illegal
trade,
killings
&
mafia
flourish.
Classification of Riba
The first and primary type is called Riba An Nasiyah or Riba Al Jahiliya. 2. The second
type is called Riba Al Fadl, Riba An Naqd or Riba Al Bai.
Since the first type was specified in the Quranic verses before the sayings of the Holy
Prophet, this type was termed as Riba al Quran. However the second type was not
understood by the Quranic verses alone but also had to be explained by the Holy
Prophet, it is also called Riba al Hadees.
Riba An Nasiyah
This is the real and primary form of Riba. Since the verses of Quran have directly
rendered this type of Riba as haram, it is called Riba Al Quran. Similarly, since only this
type was considered Riba in the dark ages, it has earned the name of Riba Al Jahiliya.
Riba An Nasiyah refers to the addition of the premium which is paid to the lender in
return for his waiting as a condition for the loan and is technically the same as interest.
The prohibition of Riba An Nasiyah is one of those issues which have been confirmed in
the revealed laws of all Prophets (AS).
Riba An Nasiyah, the giving and taking of any excess amount in exchange of a loan at
an agreed rate is included in interest irrespective whether at a high or low rate. It has
been proven through ahadith that the Holy Prophet paid excess at the loan repayment
time but since this excess was not paid through an agreed rate, it cannot be called
interest. This clarifies that the word "draws" in the hadith definition" The loan that draws
interest is Riba." has been used to highlight the giving and taking of excess amount
through an agreed rate in the loan contract.
In short, the Riba of today which is supposed to be the pivot of human economy and
features in discussions on the problem of interest is nothing but this Riba, the
unlawfulness of which stands proved on the authority of the seven verses of the Quran,
of more than forty ahadith and of the consensus of the Muslim community.
Wisdom behind the prohibition of Riba An Nasiyah.
First of all, we should realize that there is nothing in the entire creation of the world,
which has no goodness or utility at all. But it is commonly recognized in every religion
and community that things which have more benefits and less harms are called
beneficial and useful. Conversely, things that cause more harm and less benefit are
taken to be harmful and useless. Even the noble Quran, while declaring liquor and
gambling to be haram, proclaimed that they do hold some benefits for people but the
curse of sins they generate is far greater than the benefits they yield. Therefore, these
cannot be called good or useful; on the contrary, taking these to be acutely harmful and
destructive, it is that they be avoided.
The Riba consumer suffers such a spiritual necessary and moral loss that it virtually
takes away the great quality of being 'human' from him. An intelligent person who
compares things in terms of their profit and loss, harm and benefit can hardly include
things of casual benefit with an everlasting loss in the list of useful things. Similarly no
sane and just person will say that personal and individual gain which causes loss to the
whole community or group is useful. In theft and robbery for example, the gain of the
gangster and the take of the thief is all too obvious but it is certainly harmful for the
entire community since it ruins its peace and sense of security.
Riba Al Fadl
The second classification of Riba is Riba Al Fadl. Since the prohibition of this Riba has
been established on Sunnah, it is also called Riba Al Hadees.
Riba Al Fadl actually means that excess which is taken in exchange of specific
homogenous commodities and encountered in their hand-to-hand purchase & sale.
These six commodities according to Hadith can only be bought and sold in equal
quantities and on spot. An unequal sale or a deferred sale of these commodities will
constitute Riba.
It has been declared by Islamic scholars that if a commodity bears both of the two
characteristics namely; it has weight and can be used as a medium of exchange, and
then the following two kinds of transactions are not allowed when the same goods are
being exchanged:
1. A deferred sale of goods (A deferred sale is when the goods are returned/or paid
for after some undetermined period)
2. A sale of unequal quantities of the same goods
However, when only one of the two characteristics is present to term the sale as Riba Al
Fadl, then exchange of unequal goods are allowed but deferred sale is not allowed.
Wisdom behind the prohibition of Riba Al Fadl
The prohibition of Riba Al Fadl is intended to ensure justice and remove all forms of
exploitation through 'unfair' exchanges and to close all back-doors to Riba An Nasiyah
because in the Islamic Shariah, anything that serves as a means to the unlawful is also
unlawful.
Basically in borrowing the concept is that when you borrow you return the same as well,
but if the parties mutually agree they can exchange as they like.
Q.3: Define the term Mudarabah. Types of Mudarabah?
Mudarabah
This is a kind of partnership where one partner gives money to another for investing in a
commercial enterprise. The investment comes from the first partner who is called "Rabul-Maal" while the management and work is an exclusive responsibility of the other, who
is called "Mudarib" and the profits generated are shared in a predetermined ratio.
Types of Mudarabah
There are 2 types of Mudarabah namely:
1. Al Mudarabah Al Muqayyadah: Rab-ul-Maal may specify a particular business or a
particular place for the mudarib, in which case he shall invest the money in that
particular business or place. This is called Al Mudarabah Al Muqayyadah (restricted
Mudarabah).
2. Al Mudarabah Al Mutlaqah: However if Rab-ul-maal gives full freedom to Mudarib to
undertake whatever business he deems fit, this is called Al Mudarabah Al Mutlaqah
(unrestricted Mudarabah). However Mudarib cannot, without the consent of Rab-ulMaal, lend money to anyone. Mudarib is authorized to do anything, which is normally
done in the course of business. However if they want to have an extraordinary work,
which is beyond the normal routine of the traders, he cannot do so without express
permission from Rab-ul-Maal. He is also not authorized to:
a) keep another Mudarib or a partner
b) mix his own investment in that particular Modarabah without the consent of Rab-ul
Maal.
Conditions of Offer & Acceptance are applicable to both. A Rab-ul-Maal can contract
Mudarabah with more than one person through a single transaction. It means that he
can offer his money to 'A' and 'B' both so that each one of them can act for him as
Mudarib and the capital of the Mudarabah shall be utilized by both of them jointly, and
the share of the Mudarib.
Q.4: Difference between Musharakah and Mudarabah?
Islamic banking is a new phenomenon that has taken many observers by surprise.
Islamic banking (also called non-interest based, Riba or interest free banking) is an
alternate to interest based banking. Its inspirations and guidance is derived from the
directives of Shariah and has to be conducted rigorously in accordance with these
directions. The key feature of Islamic banking is the prohibition of Riba. Islamic
banking is a system of banking, which is based on Shariah rules and principles. It is
different from current banking system, which is based on Riba. Islamic baking is
based on profit and loss sharing.
What is an Islamic Bank?
1. Islamic bank is a financial and social institution, which sets its objectives and
principles on the basis of principles of Shariah, as lay down by Quran and
authentic Sunnah, and carries out its banking practices and operations strictly in
accordance with these doctrines.
2. Islamic bank operates on the principal of actual profit and loss. They take deposit
and lend money at a pre-determined ratio of profit and loss that they share with
their depositor or debtors on actual profit and loss.
Total assets
*Rs in billion
2003
2004
2005
2006
12.9
44
60
79
Islamic Banking has proven its competence and can grow to become a
powerful force in years to come in Islamic countries and beyond. For an industry that is
still considered something of a newcomer, in the past three decades, it has done a very
impressive progress. It is projected that total assets of the industry would growth in the
range of 8 to 15 percent over the next five years, according to Opportunities and Trends
in Islamic Finance, February 2005.
According to an analyst a big challenge for SBP is to develop Shariahcomplaint products to enable the monetary management of Islamic Banking Institutions.
Similarly, accounting standards for all modes of Islamic financing need to be developed,
as in the case of Murabaha and Ijara. Increase in the size and volume of Islamic capital
markets also depends on the existence of a secondary market for trading in Sukuk,
which is still to be developed even on an international level. Another challenge for the
industry is the establishment investment banks and liquidity management institutions
exclusively for Islamic banking, following the models of Bahrain and Malaysia.
The State Bank of Pakistan in report earlier said that the unique distributive
and facilitating nature of Islamic banking products can contribute extensively not only in
the development of the economy but also to the reduction in poverty, unemployment
and income inequalities. Products based on profit and loss sharing with emphasis on
financing production and not consumption, can have a favorable impact on savings and
investments. If operated efficiently and transparently. In this respect, Musharaka can
especially be used in short, medium and long term project financing, import and preshipment export financing and working capital requirements.
Islamic financial services in Pakistan, a relatively recent occurrence, have
recorded a noteworthy progress during the last three years, constituting an asset base
of Rs 57.1 billion and deposits of over Rs. 37.6 billion as of September 2005. Given its
nascent stage of development, the share of the Islamic Banking industry in the total
assets of the banking sector grew from 0.5 percent in 1996 to 1.7 percent as of
September 2005. However, given the rapid growth of this industry, it is expected that
this share would grow considerably in the years to come.
the value of money and hence the need for indexation is an interesting one. But the
Islamic jurists have ruled out compensation for erosion in the value of money, or,
according to Hadith, a fungible good must be returned by its like (mithl): 'gold for gold,
silver for silver, wheat for wheat, barley for barley, dates for dates, salt for salt, like for
like, equal for equal, and hand to hand ...'.3
The bottom line is that Muslims need no 'proofs' before they reject the
institution of interest: no human explanation for a divine injunction is necessary for them
to accept a dictum, as they recognize the limits to human reasoning. No human mind
can comprehend a divine order; therefore it is a matter of faith (iman).
The Islamic ban on interest does not mean that capital is costless in an
Islamic system. Islam recognizes capital as a factor of production but it does not allow
the factor to make a prior or pre-determined claim on the productive surplus in the form
of interest. This obviously poses the question as to what will then replace the interest
rate mechanism in an Islamic framework. There have been suggestions that profitsharing can be a viable alternative (Kahf l982a and l982b).
In Islam, the owner of capital can legitimately share the profits made by the
entrepreneur. What makes profit- sharing permissible in Islam, while interest is not, is
that in the case of the former it is only the profit-sharing ratio, not the rate of return itself
that is predetermined.
It has been argued that profit-sharing can help allocate resources efficiently,
as the profit-sharing ratio can be influenced by market forces so that capital will flow into
those sectors which offer the highest profit- sharing ratio to the investor, other things
being equal. One dissenting view is that the substitution of profit-sharing for interest as
a resource allocating mechanism is crude and imperfect and that the institution of
interest should therefore be retained as a necessary evil (Naqvi l982).
However, mainstream Islamic thinking on this subject clearly points to the
need to replace interest with something else, although there is no clear consensus on
what form the alternative to the interest rate mechanism should take. The issue is not
resolved and the search for an alternative continues, but it has not detracted from
efforts to experiment with Islamic banking without interest.
Q.4: Write a detailed note on Salam. What are the pre-requisites of a valid
Salam?
This mode of financing can be used by the modern banks and financial
institutions especially to finance the agricultural sector. In Salam the seller undertakes to
supply specific goods to the buyer at a future date in exchange an advanced price fully
paid spot. The price is in cash but the supply of purchase goods is deferred.
Purpose of use:
To meet he need of small farmers who need money to grow their crops and to feed their
family up to the time of harvest. When Allah declared Riba haram, the farmers could not
take usurious loans. Therefore Holy Prophet (PBUH) allowed them to sell their
agricultural products in advance.
To meet the need of traders for import and export business. Under Salam, it is allowed
for them that they sell the goods in advance so that after receiving their cash price, they
can easily undertake the aforesaid business. Salam is beneficial to the sellers because
he received the price in advance and it was beneficial to the buyer also because
normally the price in Salam is lower than the price in spot sales. The permissibility of
Salam is and exception to the general rule that prohibits forward sale and therefore it is
subject to strict conditions, which are as follows:
PRE-REQUISITES OF SALAM:
1. It is necessary for the validity of Salam that the buyer pays the price in
full to the seller at the time of affecting the sale. In the absence of full payment, it will be
tantamount to sale of a debt against a debt which is expressly prohibited by the Holy
Prophet (PBUH). Moreover, the basic wisdom for allowing Salam is to fulfill the instant
need of the seller. If its not paid on full, the basic purpose will not be achieved.
2. Only those goods can be sold through a Salam contract in which the quantity and
quality can be exactly specified for example precious stones cant be sold on the basis
of Salam because each stone differed in quality, size, weight and their exact
specification is not possible.
3. Salam cant be effected on a particular commodity or on a product of a particular field or
farm e.g. Supply of wheat of a particular field or the fruit of a particular tree since their is
a possibility that the crop is destroyed before delivering and given such possibility, the
delivery remains uncertain.
4. All details in respect to quality of good soled must be expressly specified leaving no
ambiguity, which may lead to a dispute.
5. It is necessary that the quantity of the commodity is agreed upon in absolute terms. It
should be measured or weighed in its usual measure only, meaning what is normally
weighed cant be quantified and vice versa.
6. The exact date ion place of delivering must be specified in the contract.
7. Salam cant be affected in respect of things, which must be delivered at spot.
8. The commodity for Salam contract should remain in the market right from the day of
contract up to the date of delivery or at least till the date of delivery.
9. The time of delivery should be at least 15 days or one month from the date agreement.
Price in Salam is generally lower than the price in spot sale. The period should be long
enough to affect prices. But Hanafi Fiqh didnt specify any minimum period for the
validity of Salam. It is all right to have an earlier date of delivery if the seller consents to
it.
10. Since price in Salam is generally lower than the price in spot sale; The difference in the
two prices may be a valid profit for the bank.
11. A security in the form of guarantee, mortgage or hypothecation may be required for a
Salam in order to ensure that the seller delivers.
12. The seller at the time of delivery delivers commodities and not money to the buyer who
would have to establish a special cell for dealing in commodities.
In Istisna, price must be fixed with consent of all parties involved. All other
necessary specifications of the commodity must also be fully settled.
CANCELLATION OF CONTRACT:
After giving prior notice, either party can cancel the contract before
manufacturing party has begun its work. Once the work starts, the contract cant be
cancelled unilaterally.
TIME OF DELIVERY:
As pointed out earlier, it is not necessary in Istisna that the time of delivery is
fixed. However, the purchaser may fix a maximum time for delivery which means that if
the manufacturer delays the delivery after the appointed time, he will not be bound to
accept the goods and to pay the price.
In order to ensure that the goods will be delivered within the specified period,
some modern agreements of this nature contain a penal clause to the effect that in case
the manufacturer delays the delivery after the appointed time, he shall be liable to a
penalty which shall be calculated on daily basis. Can such a penal clause be inserted in
a contract of Istisna according to Shariah? Although the classical jurists seem to be
silent about this question while they discuss the contract of Istisna, yet they have
allowed a similar condition in the case of Ijarah. They say that if a person hires the
services of a person to tailor his clothes, the fee may be variable according to the time
of delivery. The hirer may say that he will pay Rs.100 in case the tailor prepares the
clothes one day and Rs.80 in case he prepares them after two days.
On the same analogy, the price in Istisna may tied up with the time of delivery,
and it will be permissible if it is agreed between the parties that in the case of delay in
delivery the price shall be reduced by a specified amount per day.
responsible to strictly conform to the specifications in the agreement for the construction
of the house. The cost of correcting any discrepancy would have to be borne by him.
Istisna may also be used for similar projects like installation of an air
conditioner plant in the clients factory, building a bridge or a high way.
The modern BOT (Buy, operate and transfer) agreement may be formalized
through an Istisna agreement as well. So, if the government wants to build a high way, it
may enter into an Istisna contract with the builder. The price of Istisna may be the right
of the builder to operate the high way and collect tolls for a specific period.
USES OF ISTSNA:
House financing
Factory building
BOT arrangements
THE END